Thursday, December 20, 2012

As in most recent years, energy was constantly in the news in 2012. A post attempting to catalog every noteworthy story or event would be quite long. However, a few big trends stand out. For starters, it's a near-certainty that the average US gasoline price will set a new record for the second year running, in both real and nominal terms. Americans are responding by choosing more fuel efficient cars. Meanwhile, fundamental shifts emerged from obscurity into the awareness of policy makers and the public. US energy exports have become a mainstream topic of conversation, and the goal of energy independence--a concept with debatable meanings--has acquired renewed respectability after spending a couple of decades on the fringes of energy policy debate. Perhaps more significantly, our views of climate change and future oil supplies--once aligned--have diverged.

For renewable energy it has been the best and worst of years. Global overcapacity in solar equipment manufacturing drove down the costs of solar panels, at least partly counteracting reductions in government incentives, especially in Europe, and making solar power more competitive. The US is on track to add a record 3,200 MW of solar capacity this year, while China could add 5,000 MW. However, solar manufacturers' rapid expansion depressed their margins and extended last year's string of solar bankruptcies, with firms like Abound Solar, Konarka, Solarwatt, Q-Cells and others forced to restructure or liquidate in 2012. A similar, if less dramatic wave is working through the more mature onshore wind industry, which faces the expiration of a key US incentive, the Production Tax Credit, or PTC on December 31. In anticipation of that loss, wind developers have added 4,728 MW of new capacity in the US through the first three quarters of 2012, the most since 2009.

Energy played a complex and possibly decisive role in the US presidential election. Remarkably, President Obama successfully co opted his opponent's energy platform by embracing an oil and gas revival that his administration had done little to help and much to hinder, even though it appeared to conflict with his emphasis on renewable energy and climate change mitigation. Meanwhile, the shale gas revolution was creating hundreds of thousands of direct and indirect jobs and lowering energy costs across the economy, contributing to US manufacturing competitiveness. The resulting economic growth, while still below the level of other post-war recoveries, apparently helped the President make his case for a second term.

The inherent tension between surging US oil and natural gas production and concerns about climate change--fanned by Hurricane Sandy--reflects a major shift that occurred this year, at least as an influence on future energy policy. Recall that until recently, memories of past energy crises, combined with the influential Peak Oil perspective, shaped our expectations of resource availability and future production. This narrative of hydrocarbon scarcity complemented prescriptions for a rapid transition away from fossil fuels as the only viable solution to climate change, supporting a shared goal of a more sustainable energy economy based on renewable energy, smart grids and electric vehicles. The exploitation of unconventional oil and gas resources in previously inaccessible source rock--shale gas and "tight" or shale oil--poses significant challenges to both strands of that argument.

First, it undermines the notion of energy scarcity for at least the next decade, and probably well beyond. US natural gas production set a new record this year, and US oil production returned to levels not seen since 1997, putting increased pressure on OPEC's control over global oil pricing. Nor does the US have a monopoly on these unconventional resources. Canada looks like the next big shale gas play, with China and South Africa possibly not be far behind. The technologies that enabled the US shale gas revolution and its oil offspring are being transferred around the world.

Yet we also learned that US energy-related CO2 emissions have fallen back to 1992 levels, largely because of a dramatic reduction in the use of coal in power generation. While renewable energy sources like wind and solar power deserve some of the credit, natural gas-fired turbines--driven by cheap shale gas--have added three times as much net generation since 2007 as non-hydro renewables.

Shale gas and oil might not provide a long-term solution to global warming, but they could at least buy us the time to develop the innovations like improved electric vehicle batteries and low-cost grid-storage that will be necessary if renewables are to displace fossil fuels across the entire spectrum of their use--and dominance. They could also provide the time to develop and deploy the next generation of nuclear power, including small modular reactors.

I'd like to thank my readers for your continued interest and encouragement and wish you a happy holiday season.

Wednesday, December 12, 2012

The Governor of Alaska reportedly met
this week with officials from the South Korean national gas company to
discuss exports of liquefied natural gas (LNG).Ever since crude oil production on Alaska's North Slope ramped
up in the 1980s, industry observers have speculated about the ultimate
disposition of the significant associated natural gas reserves found with the
oil. In a letter filed with the state of Alaska, BP, ConocoPhillips and ExxonMobil, the three main North Slope
producers, together with pipeline company Transcanada, recently confirmed their
plans for a potential liquefied natural gas (LNG) project, instead of the
long-mooted pipeline to deliver the gas to America's lower-48 states. The
contemplated megaproject would validate both the scale of Asia's future LNG
market and the long-term nature of the US shale gas revolution.

Alaska's North Slope has already yielded 15 billion barrels of oil. Production peaked at over 2 million barrels per day in 1988 and
subsequently declined to less than 600,000 barrels per day last year. With
around 6 billion barrels of remaining reserves, it's still a very significant field but
well past its prime. While the public has focused on its oil output, the
producers and the state have long had their eyes on how best to harvest the
value of the 35 trillion cubic feet (TCF) of gas dissolved in the oil. In fact, the North Slope
complex has produced several TCF per year of gas for years, ranking it among the largest gas fields in
the world, but almost all of that gas has been reinjected into the formation to
aid oil recovery--and for lack of a market in an isolated and
sparsely-populated state.

For decades the default assumption was that a pipeline would eventually be built across Alaska and Canada to link this gas to the existing network feeding the contiguous
US. That idea gained traction when US marketed gas production stalled around 2000 and then began to decline. The economics of
an Alaskan gas pipeline compared poorly with gas produced along the Gulf Coast,
but competing with rising LNG imports looked much more feasible. Then along came unconventional gas,
starting with coal-bed methane and culminating with the surge of shale
production since 2005. The US gas market now has enough domestic supply to
shrink coal's contribution to US power generation by 7% since 2008 and revive gas-intensive industries.

If shale gas were only a short-term phenomenon, as some have suggested, it
would be of little relevance to the plans of the North Slope producers. All
they'd need to do would be to delay their pipeline for a few more years, and
the market would come to them. However, estimates put US shale gas resources at
between 482and 686 TCF--a 60-90 year supply at current shale production rates. And the fact that all three of the main North Slope producers
have invested in significant acreage positions and production in US shale basins surely gives them insights into the longevity of those
resources. Nor is time on the side of the Alaskan producers. As oil production declines
the economics of the North Slope operation will deteriorate, while keeping the
Trans Alaska Pipeline full becomes more problematic. Finding an attractive
outlet for the North Slope "gas cap" wouldn't just provide a new
revenue source; it could keep oil production going for additional decades.The LNG option offers several advantages, despite its estimated $45-65 billion price tag and technical complexity. For starters, it cuts
roughly 1,000 miles of difficult terrain off the distance that the gas must be
pipelined, in this case to a site on the southern Alaskan coast. That location
is much closer to Asia, the world's largest LNG market, than export projects
intended to ship LNG from the US Gulf Coast. The Asian market is also growing,
thanks in part to Japan's post-Fukushima reassessment of nuclear power. The
Japanese government has backed away, at least for now, from plans for a firm nuclear phase-out, but
it seeks to diversify its energy sources. Among other steps taken in the
aftermath of the Sendai quake and nuclear disaster, it has instituted the
world's most attractive solar power incentives. Yet Japan's solar resources provide just a few hours of peak output per day, on average,
requiring substantial fossil fuel generation to fill in the gaps. Power plants
burning LNG are well-suited to that task.

China presents a more complex picture, with its own significant shale gas potential and an energy market expected to add as much natural gas demand by 2035 as all the world's developed
countries put together. Considering the scale of eventual demand and the
infrastructure necessary to bring China's shale gas to market, it seems likely
that the growth of the market in the interim must depend heavily on LNG
imports.

Assuming that the state of Alaska presents no obstacles and that US export
permits would be forthcoming, because Alaskan LNG exports wouldn't impact US
natural gas prices, the main questions that will determine the future of this
project can't be answered definitively today. Among these are whether the
numerous competing LNG projects being planned and built around the Pacific Rim
and elsewhere will saturate the global market in the meantime, and whether the
market will provide an attractive price for Alaskan LNG, influenced more by
crude oil prices than by US shale gas. The North Slope producers are already
immersed in these issues via their other activities, including ConocoPhillips'
small LNG plant in Kenai, Alaska, which has been shipping LNG to Asia for more than 40 years. The project timeline provided to the state includes at least three go/no-go
decisions along the way as the answers to these questions unfold.

A slightly different version of this posting was previously published on the
website
of Pacific Energy Development Corporation.

Thursday, December 06, 2012

Last month the International Energy Agency (IEA) released its annual long-term forecast, the World Energy Outlook (WEO). Its projection that US oil output would exceed that of Saudi Arabia within five years was featured in numerous headlines, although some of the report's other findings look equally consequential. That includes the continued strong growth of energy demand in China, India and other Asian countries, and the linkages between that growth and a dramatic expansion of Iraqi oil production. The agency also set a cautionary tone concerning the increase in global greenhouse gas emissions accompanying all this growth.

In the IEA's primary "New Policies" scenario, the US overtakes Saudi Arabia in oil production by 2017, adding 4 million barrels per day (MBD) of unconventional output, mainly from shale (tight oil) deposits such as the Bakken in North Dakota. US oil imports decline significantly, due in roughly equal measure to higher production and the implementation of strict vehicle fuel economy regulations. As a consequence, the need for imports from the Middle East approaches zero within 10 years. When this change is combined with the growth in oil demand in Asia, where China alone accounts for half the forecasted global growth in oil consumption in this period, the IEA envisions Asia becoming the recipient of 90% of Middle East oil exports by 2035.

The detailed assumptions behind the IEA's conclusions weren't provided in the public release. These include crucial questions such as the assumed status of US rules barring most crude oil exports. As noted in a Reuters op-ed at the time, maximizing the potential of US unconventional resources may depend on allowing higher quality unconventional oil to seek global markets, while continuing to import oil from Latin America and the Middle East into Gulf Coast refineries geared to these heavier, higher-sulfur feedstocks. The op-ed's author also reminded us that the natural gas liquids included in the headline comparison with Saudi production are useful but quite different from crude oil, yielding little gasoline and diesel fuel.

The expected growth of energy demand in China remains extraordinary, even with the country's economic growth slowing from the levels seen a few years ago. To put this in context, when Dr. Fatih Birol, Chief Economist of the IEA, presented the new WEO to the media in London on November 12th, he suggested that China's electricity demand would grow by the equivalent of "one US and one Japan of today" by 2035. Much of that additional electricity generation is projected to come from renewables, nuclear power and domestic gas. Nevertheless, and in spite of significant increases in China's unconventional gas production, the IEA forecasts that import dependence will grow from about 15% for gas and 50% for oil today, to 40% for gas and over 80% for oil by 2035. That increase in imports would equate to additional hundreds of millions of dollars per year of outflows for energy.

In the view of the IEA, much of the extra oil demanded in Asia will be supplied by Iraq, which they project will increase its output from around 3 MBD today to 6.1 MBD in 2020 and 8.3 MBD in 2035, in the process becoming the world's second-largest oil exporter, after Russia. Since the reserves to support that growth have already been identified, with much lower production costs than many other basins, the uncertainties involved are mainly political and structural. Resolution of the current standoff with Iran over its nuclear program would provide even more Middle East oil for Asian markets.

As in its earlier "Golden Age of Gas" scenario, the IEA expects large increases in global natural gas consumption. Unconventional sources, mainly in the US, China and Australia, would contribute around half the additional production required to meet expanded demand. However, at the launch presentation in London Dr. Birol also stressed that unconventional oil and gas are still at an early stage, with significant uncertainties about the eventual magnitude of their resources. This seemed to be a particular issue for the agency's post-2020 forecast of oil production in the US and gas production in China.

Despite the rigorous analysis and level of detail involved in producing the IEA's World Energy Outlook, long-term energy forecasting should always be taken with a grain of salt. Yet whether or not the highlighted trends mature precisely in line with these projections, the shifts that the IEA identified are significant and already becoming evident in current data for energy production, consumption and trade. Even if North America failed to become a net oil exporter--which many equate with energy independence--by 2030, the movement of the center of gravity of global energy trade towards Asia is essentially pre-determined: baked in by differences in economic growth rates and resource opportunities. The economic, geopolitical and environmental consequences of that shift are just starting to take shape.

A slightly different version of this posting was previously published on the website of Pacific Energy Development Corporation.